China’s growth is much worse than it admits – but that doesn’t matter

Now there’s a surprise – China’s GDP was better than anyone expected. It came in at 6.9% for the third quarter; below the 7% seen in the first half of the year, but better than economists had expected.

And if you’ll believe that, you’ll believe anything.

It’s nonsense, of course. China has some of the most suspiciously stable GDP data around, because the government needs a headline figure it can point to and argue that all of its plans are working perfectly. Real growth is much lower.

So that means we shouldn’t touch it with a ten-foot bargepole, right?

Wrong…

Sceptical about Chinese GDP data? You should be

People have long been sceptical of Chinese GDP data, and with good reason. When the party decides that it must and will have growth of 7% this year, or whatever the latest target is, you can be sure that they will hit that target one way or another.

That’s just the way these things work. As Mark Williams at Capital Economics puts it: “GDP growth is a high-profile policy target that is seen as a key metric of whether the leadership’s economic policies are working”.

In a dictatorship (and while it’s on the ‘cuddlier’ end of the spectrum than some, that’s exactly what China is, and we’d do well to remember it), if a target reflects on the leadership, then it won’t be missed. And given that the Chinese economy has been in slowdown mode since 2012, the data has become steadily more detached from reality since then.

However, the good news is that other data isn’t as fiddled as the GDP figures are. As Capital Economics and several other forecasters have twigged, you can look at the “wide range of low-profile data” that China releases to get a better idea of the ‘real’ picture.

So what is the real picture? Well, Capital reckons that growth went from an annual rate of 5.5% in the last quarter of 2014, to 4% in the first quarter of this year.

That’s a hefty slowdown. And it’s a lot slower than the official figures. But here’s the good news.

The good news about China

The data might be rubbish. But it’s the direction of travel that matters, not the current position.

As I mentioned already, China has been slowing down for a long time – we’ve been writing about it since at least 2012. And yet it’s only really this year and last that the implications of that started to make themselves felt in the markets.

Collapsing commodity prices, poorly-handled interventions by the Chinese government and sliding emerging markets – suddenly everyone woke up to the Chinese ‘hard landing’ and started to panic.

But now a hard landing has arguably been priced in. So if we get to the stage where things are bad, but getting better, then markets should find some room to rally. And that’s what we’re seeing.

Capital reckons that growth stabilised in the second and third quarters of this year, to around 4.5% year-on-year. And as Julian Evans-Pritchard puts it: “Today’s data suggest that while the official GDP figures continue to overstate the actual pace of growth in China by a significant margin, underlying conditions are subdued but stable.” Meanwhile, “stronger fiscal spending and more rapid credit growth will limit the downside risks to growth over the coming quarters.”

In short, things are bad, but they are stabilising and likely to get better from here. That’s something that the market has only just begun to wake up to.

It’ll be interesting to see how China deals with the potential default of state-owned miner and steel trader Sinosteel this week. As the FT reports, the company warned investors last week that “its subsidiary lacked the funds to repay principal and interest on $315m in bonds sold in 2010 due on Tuesday”.

It would be good to see Sinosteel being allowed to default. That would suggest that China is serious about market reform. However, judging by the past, it’s highly unlikely. That’s not a great sign for the long run, but China’s hardly the only global power that remains wedded to the politically convenient bailout.

For example, as we’ve already noted, over in the US the Federal Reserve seems to have entirely lost its nerve when it comes to the prospect of raising interest rates. And that’s another reason to be more optimistic than most on prospects for China and other emerging markets. A weakening dollar effectively means looser global monetary policy and will take a lot of the pressure off these markets.

A few weeks ago, our roundtable experts looked at ways to play a Chinese rally and a slowdown in the dollar’s bull run, in MoneyWeek’s cover story. That’s exactly what’s playing out just now, but it’s not too late to get on board.

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